Sharia mortgages

Islamic / Muslim Mortgages

In the last five years, the provision of Islamic banking facilities, especially mortgages, has been a rapidly growing area. If you want to borrow money to buy a property while remaining in compliance with Islamic law, you will now find it much easier and cheaper to do so than you would have done five years ago.

This might be good news for you, or you might be wondering what makes Islamic mortgages different, and why they are needed. Read on for all the answers.

Why Do We Need Islamic Mortgages?

Under Islamic law (Sharia) the payment or receipt of interest (riba) is forbidden. Interest is seen as a payment that is unrelated to the value of the goods or assets being traded, and is considered sinful.

In other words, it is not permitted to make money just from lending money – some additional service has to be provided by the lender for them to earn their profit.

For many Muslims in Britain this has led to an uncomfortable position – they either have to live in long-term rented accommodation, whilst trying to save the entire purchase price of a house, or they have to compromise their beliefs and take out a UK-style interest-bearing mortgage. In recent years, the options for Sharia-compliant mortgages have improved considerably, meaning that many Muslims no longer have to make these difficult compromises.

Remember, it is perfectly acceptable for Muslims to make a profit by lending money, but this must be done based on goods or services provided, not simply by charging an arbitrary fee (interest) on the money lent. There are two main ways of providing mortgages that meet the requirements of Islamic law, and these are explained in detail below.

How Do Islamic Mortgages Work?

There are two main types of Islamic mortgage available to you in the UK today:

The Ijara Mortgage – "lease to own"

The Murabaha Mortgage – lender resells house to borrower

In the UK, Ijara-based mortgages are by far the most popular and affordable – as you will see, Murabaha-based mortgages require a large amount of available capital.

Ijara Mortgages – Lease To Own

The vast majority of the Islamic mortgages available in the UK are based on the Ijara principle, which can loosely be described as "lease to own". Ijara mortgages work like this:

- You find a house to purchase and agree a sale price with the seller
- As with any mortgage, you then agree the amount of the mortgage with your Islamic lender- Your lender will then purchase the property outright
- You then enter into two agreements with the lender:
- You will pay back the purchase price of the property in fixed monthly instalments, usually over 25 years (like an interest mortgage)
- You will pay an agreed amount of rent each month – this provides the lender’s profit
- The rent is set annually, and decreases each year in line with your gradual repayment of the purchase price of the property
- When the purchase price has been fully repaid to the lender, ownership of the property is fully-transferred from the lender to you

Using this system, you can borrow as much as 90% of the purchase price of the property, and repay it until you own the house while providing the lender with a profit that is legitimate under Islamic law (Sharia).

Exact details of these schemes vary between lenders. Make sure you understand exactly how your chosen mortgage works before signing up to it.

Murabaha Mortgages – Lender Resells House to Borrower

Murabaha mortgages are much less popular in the UK, and very few Islamic lenders offer them.

The main reason for this is that a very large initial amount of capital is normally required by the borrower, and the lending term is typically no more than 15 years, making it difficult to afford for most borrowers.

Murabaha mortgages work in this way:

- You find a property and agree a purchase price with the seller
- You then agree the loan required with your Islamic lender
- Typically, you will have to provide around a 20% deposit at this time
- The lender will then buy the property and immediately resell it to you for a higher price
- You will then pay back the lender the resale price in fixed installments until you own the property completely
- Typically, a Murabaha mortgage will not extend beyond 15 years, so repayments can be quite high

The difference between the original purchase price and the higher price at which the property is resold to you provides the Islamic lender with a profit that is compliant with Islamic law.

You will probably have a number of questions about Islamic mortgages – we've listed the most common questions below with their answers to get you started.

If you are considering taking an Islamic (or any other) mortgage, it is worth taking the advice of a professional mortgage adviser before signing up to anything to make sure you are getting the best possible deal for your needs.

Question: Both these types of muslim mortgages seem to involve transferring ownership of the property twice. Does this mean I will have to pay Stamp Duty tax twice?

Answer: Not anymore. In 2003, Stamp Duty rules were changed to accommodate Islamic mortgages and now it is only necessary to pay Stamp Duty once, at the time of the original purchase.

Question: Can I borrow the same amount with an Islamic mortgage as with an interest mortgage?

Answer: Very similar amounts. Islamic lenders tend to be a little more conservative than some other lenders, and typically you will be able to borrow 2.5x - 3x your earnings plus 1x the annual income of your partner, if any.

Question: Do all banks provide Islamic mortgages?

Answer: No. But there are a selection of high street banks, building societies and wholly Islamic banks that do – here are some examples:

- HSBC – the first high street bank, also offers full Islamic banking

- Lloyds TSB – now offers Islamic mortgages in every branch

- Bristol & West – in partnership with ABC International Bank

- West Bromwich Building Society – one of the first in the UK to offer this service

- ABC International Bank – their scheme is also used by Lloyds TSB

- United National Bank

There are other Islamic lenders and it would be worth getting the advice of a specialist mortgage adviser to make sure you understand the differences between each bank’s offerings, as the rules can be a little harder to understand than with interest mortgages.

Question: Do Islamic mortgages cost more than interest mortgages?

Answer: Yes, a little. You will probably find your monthly payments are a little higher with an Islamic mortgage than they would be with an equivalent interest mortgage. There are several reasons for this:

- The banks have to pay slightly higher rates for halal (permitted) funding.
- There are still only a relatively small number of providers for Islamic mortgages, so competition is not as intense as for interest mortgages.
- The arrangements are slightly more complex and expose the bank to greater risk than with an interest mortgage, especially with an Ijara mortgage, where the bank owns the property for up to 25 years before transferring ownership to you.

Many Muslims throughout the UK are happy to pay a small premium in order to avoid having to compromise on their religious beliefs, and these mortgages are becoming increasingly popular.

Again, make sure you consult a professional mortgage adviser to check that you are getting the best possible deal for you.

Question: Are these Islamic mortgages certified or approved by religious authorities in some way?

Answer: Yes, they are. All banks offering Islamic financial products are required to have a Sharia Advisory Board, consisting of recognised experts on Islamic (Sharia) Law. Check with the bank concerned if you would like to know more about their Sharia board.

Question: Someone mentioned the Diminishing Musharaka principle to me. How does this fit in with Ijara and Murabaha mortgages?

Answer: Musharaka means "partnership". Ijara (lease) schemes usually incorporate the Diminishing Musharaka principle.

What it means for you is that at the beginning of the mortgage, you are effectively in a partnership with your lender. You own a portion of the property, equivalent to your deposit, and they own the rest. You are allowed to live in the property and pay rent in return for this facility.

As you repay more of the property's purchase price, you gradually own a greater portion of the property, and your rent decreases. As you own more, the partnership (musharaka) is said to diminish, eventually ending when you have repaid the entire purchase price of the property – hence "Diminishing Musharaka".

Question: Are Islamic mortgages suitable for buying flats on leasehold too?

Answer: Usually. You need to check that the mortgage you are considering allows this, but most Islamic mortgages do.

Think carefully before securing other debts against your home.Your home may be repossessed if you do not keep up repayments on your mortgage.